My opponent caught my flag man, and moved him onto a tile that was occupied by my spy, and the banner bearer disappeared...never to reappear again. The spy, however, survived. (Don't know if it makes any difference, but my spy was visible to my opponent at the time).

The next go, I caught his flag by moving another spy to 4 squares away from his flag. Can this be right? Surely it is meant to be a military unit adjacent to, not a stealth unit nearby, that triggers the conversion.

Also, is the flag man meant to be a lazy bogger with no desire to do anything with his life until captured? I got one move out of him before he got tired and refused to go any further.

Yes,it has bugs. It is because the banner men can move in first turn but the trigger (objs in area) was set only in starting area.
Some idea:
A.Make banner men cannot be deleted. (Important!)
1.Disable banner men at start. (Easiest)
2.Make ~50 triggers to cover tiles that banner men can move in first turn. (Complex)